Accepting Dead Money in Free Agent Contracts

Robinson Cano just turned 31, and the FanGraphs crowd expects him to sign an eight year contract this winter that will take him through 2021, his age-38 season. It’s not out of the realm of possibility that he lands a nine or ten year deal, as Prince Fielder and Albert Pujols did a couple of years ago, and ends up getting signed through age-40. And it’s not a controversial statement to say that Robinson Cano is unlikely to still be a highly productive player at that point in his career.

Any team that signs Cano this winter is going to be be guaranteeing him in the range of $25 million per year for years in which Cano should reasonably be projected as a below average player, and maybe even a guy who shouldn’t be starting for a big league team. The negotiations for his services are essentially going to center around how many years a team is willing to guarantee Cano a significant paycheck while expecting almost nothing in return. The team that eventually gets to sign him will be the team that gives him the most “dead money” years.

This is what free agency for elite players has evolved into. Instead of negotiating on annual salary, the market has evolved to negotiate on years. Let’s look at some data, so you don’t have to take my word for it.

Here is some data of MLB salaries over the last decade, thanks to ESPN and Baseball-Reference. The three columns represent the average salary of the five highest paid players in each year, the MLB average salary for all players in that season, and the league minimum for that year. At the bottom, I have listed the total percentage increase for each.

Year Top 5 Average MLB Average MLB Minimum
2004 $20,160,000 $2,372,189 $300,000
2005 $21,720,000 $2,313,535 $300,000
2006 $20,208,000 $2,476,589 $316,000
2007 $20,430,600 $2,699,292 $327,000
2008 $22,116,200 $2,824,751 $380,000
2009 $23,664,600 $2,925,679 $390,000
2010 $24,131,000 $2,996,106 $400,000
2011 $25,719,600 $3,014,572 $400,000
2012 $24,400,000 $3,095,183 $414,000
2013 $24,900,000 $3,213,479 $480,000
Increase 24% 35% 60%

Total salaries have risen by a total of 35% over the last 10 years, but it has not been a 35% increase in salary for each player. Instead, what we’ve seen is a dramatic rise in the minimum wage relative to the highest paid players in the game. 10 years ago, the most expensive players made about 70 times the league minimum, and then it shifted to around 60 times the minimum from 2007-2012; last year, it was just 52 times the minimum. While income inequality is a big topic among U.S. economists, baseball is actually seeing a reversal of the national trend, at least in terms of annual paychecks.

Weep not for the super rich, however; they are still getting their money. Since this table only shows annual salary, it doesn’t reflect the length of the commitment that Major League teams are making to premium players. Essentially, the top players have traded in part of the overall salary increase for extended long term security. The best players in the game are choosing years over dollars.

In 2001, both Derek Jeter and Alex Rodriguez got 10 year contracts, and then in 2003, Todd Helton got a nine year deal. Contracts of this length aren’t completely unprecedented, but they used to be exceedingly rare. They are becoming far more common in this day and age. We’ve already mentioned Pujols and Fielder, but the list of players currently under contracts of at least nine years also includes Alex Rodriguez, Joey Votto, Buster Posey, Troy Tulowitzki, Evan Longoria, Ryan Braun, and Elvis Andrus. Not all of these deals were announced as nine year contracts, but if you give a player a seven year deal that starts in two years, I think it’s fair to consider that a nine year commitment, since the contract ends nine years from when it was signed.

Reports have suggested that Clayton Kershaw is likely to join that mix this off-season, becoming the first pitcher to sign a deal for more than seven guaranteed years since the Mike Hampton disaster contract of 2001. And we’ll probably have another set of extremely long term extensions for non-free agents next spring, as we saw last year with Posey, Andrus, Felix Hernandez, and Justin Verlander this year.

There is something to note about these long term extensions, however: they’re essentially all being priced at something close to or below $25 million per year, the lower market rate — relative to the league minimum — than we’d expect based on total salary inflation across the sport. Pujols got $24 million per year for 10 years, ending in 2021. Fielder got $24 million per year for nine years, ending in 2020. Votto got $22.5 million per year for 10 years — two years away from free agency, so a 12 year commitment when it was signed — ending in 2023. Posey gets to $21.4 million in 2021. Longoria tops out at $19.5 million when his deal expires in 2022.

Essentially, the new breed of superstar contract is telling premium players that they can lock in nearly a decade’s worth of guaranteed dollars if they take today’s price for the entire term, or in some cases, something a little less than today’s price depending on how much of a home town discount they’re giving up. While baseball salaries have been inflating at a rate of 3.5% per year on average for the last decade, the superstar contracts are generally not giving them raises that will keep up with salary inflation; the inflation that teams and players are accepting is in guaranteed years.

Essentially, teams are accepting that they’re going to have dead money on the books in the distant future in exchange for relatively lower salaries for elite players in the short term. Rather than escalate the top salary to $30 million per year, the market has simply shifted those extra wages to the back end of the contract in the form of an additional guaranteed year.

Let’s look at two hypothetical long term contracts for Robinson Cano, for instance, noting his expected production and salary in each season. We’ll apply a standard aging curve of about a half win per season decline until age 33, and then a 0.7 win per season decline after that. Here’s what a standard nine year, $225 million contract for Cano might look like:

Year Salary Projected WAR $/WAR
2014 $22,000,000 6.0 $3,666,667
2015 $24,000,000 5.5 $4,363,636
2016 $25,000,000 5.0 $5,000,000
2017 $25,000,000 4.3 $5,813,953
2018 $25,000,000 3.6 $6,944,444
2019 $25,000,000 2.9 $8,620,690
2020 $25,000,000 2.2 $11,363,636
2021 $26,000,000 1.5 $17,333,333
2022 $28,000,000 0.8 $35,000,000
Total $225,000,000 31.8 $7,075,472

The last three years of that deal look pretty awful. In those seasons, Cano would be paid nearly $80 million and return a whopping +4.5 WAR. After the end of year five even, that looks like a contract you’d want to void, if such a thing was possible in MLB.

Now, here’s a five year deal at the same price level that avoids those last four seasons.

Year Salary Projected WAR $/WAR
2014 $33,000,000 6.0 $5,500,000
2015 $34,000,000 5.5 $6,181,818
2016 $35,000,000 5.0 $7,000,000
2017 $35,000,000 4.3 $8,139,535
2018 $36,000,000 3.6 $10,000,000
Total $173,000,000 24.4 $7,090,164

In terms of price, $225 million for nine years is basically the equivalent of $173 million over five years, or an average of about $35 million per year. That is probably something close to the salary that it would take to get Cano to forego a very long term contract that carried him into his unproductive years, if Cano was primarily interested in maximizing his total earnings over the next decade.

Whenever a player signs one of these mega contracts, a significant part of the reaction is that the deal is crazy because of how overpaid the player is going to be at the end of the deal. That is usually a true statement, but it is far too narrow of a way of viewing contracts. If teams were primarily interested in avoiding having dead money on the books, then the average salary of the highest paid players in the game would be something like $10 million per year higher than it is now.

That is not the choice that teams and players have made. Both sides have agreed that they would rather transfer those up-front costs to the back end of the deal, giving the player security of knowing where he’ll spend most of the rest of his career, while deferring a portion of the cost of carrying a star player to nearly a decade from now. And in reality, this is not much different than simply trading some prospects to acquire a veteran to help get your team into the postseason.

When you trade young players with multiple years of team control at reduced prices for a player with just one or two years left before they hit free agency, you are essentially buying a player that you couldn’t otherwise afford by borrowing money from your future. It is not as clearly a financial transaction as a contract, but removing cost controlled players from your organization creates holes that have to be filled by spending money in the future, often at market prices.

Any team who trades for David Price this winter is going to be giving up players who project to have significant value from 2016-2020ish, and in acquiring Price, they’ll be getting zero expected production from him in those years, barring a very expensive contract extension before he reaches free agency. Even with an extension, the cost of buying out free agency is going to be so high that they’ll be receiving little surplus value in those years. Meanwhile, the prospects they’ve traded away will have to be replaced with future spending. Acquiring Price for prospects is, at the end of the day, not that different from signing a a player to a six or seven year contract when you only expect him to perform for two of those six or seven years.

Yet this kind of borrowing from the future is widely accepted as a roster building technique. Trading prospects for veterans is what contending teams do, and is considered part of the value of having a strong farm system in the first place. Making the same kind of decision, only substituting in future cash instead of future cost controlled players, often leads to derision and scorn.

There absolutely are bad long term contracts that leave organizations without the financial flexibility needed to put contending teams on the field, just as there are bad prospects-for-veterans trades that remove future stars from a team’s organization without giving enough short term reward to justify the move. I would suggest, however, that we view both types of moves as the same decision, and not immediately reject the value of deferring a premium free agent’s cost into years 7-10 simply because the contract is going to end poorly. It’s going to end poorly because, when these deals are done right, they provide a huge amount of value at the beginning of the contract, far and above what a player is actually worth based on his production.

Declaring that any contract a bad contract if it ends with multiple years of low performance-to-salary ratios is simply incomplete analysis. Long term deals have to be viewed as an exchange, where the player concedes that he will take far less in salary than he is worth in exchange for a guaranteed paycheck when he might otherwise not be able to get one.

Don’t want to give Robinson Cano a nine year deal? That’s fine, and perhaps even rational. If you want that kind of player on your team, though, then you should be prepared to offer him $35 million per year on a shorter term deal. Because, without the dead money at the end, that’s closer to his actual value than the $25 million he’s likely going to ask for.

Dave is the Managing Editor of FanGraphs.

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10 years ago

Very interesting analysis.

Could the reason for this be either?

1) players don’t fully appreciate the dollar-cost of time ($1m now is worth more than $1m in 10 year)
2) insurance policies against injury are structured so as to somehow favor this type of deal

I’m leaning towards #1 because even you excluded that from your calculation.

10 years ago
Reply to  Dave Cameron

I think a lot of players also like seeing the numbers next to their names. The $100 million dollar deal makes you a $100 million dollar player even if the money is deferred and the real value is less.

10 years ago
Reply to  Dave Cameron

In addition, what added flexibility does reducing the years of the “superstar” get you? If all else is equal, why would you not want the potential production in years 6-10?

*Note: By all else being equal, I mean that the NPV of the 5 year contract and the 10 year contract are the same.

10 years ago
Reply to  Dave Cameron

I guess these sorts of massively multi-year deals basically come with their own effective no-trade clauses: the deals are only “worth it” because of the first few years, which is not the period the team wants to get rid of the player. Once the player is beyond the first few productive (relative to his salary) seasons, he’s effectively untradeable because the rest of the contract is only downside.

10 years ago
Reply to  mettle

For these high-end players with agents and i’m sure management ‘teams’, etc, I’m sure the people negotiating know about inflation. It’s not like a 18 year old going in negotiating by himself

10 years ago
Reply to  mettle

I think it’s beneficial for the players, as long as they have a moderate risk profile.

Take Cano, age 31, for instance. Let’s say he has a choice between signing one of the two contracts you drew out above, for the dollar amounts you chose. That would mean Cano would need to expect to make at least $52,000,000 a year for four years, or $13,000,000 a year, for the shorter contract to make sense. He’s obviously not going to get all of that money at once (a four year contract for an age-38 second baseman, if he doesn’t switch positions?). He will likely earn one- and two-year contracts for which the value will fluctuate based on year-to-year performance and injury risk.

Inflation, both within the sport and the macro economy, may alter the break-even amount. But unless Cano believes he will be able to command 1.5-2.5 win money each year for his age 38-41 seasons, he’s better off taking the 9 year deal.

Also, of course, Cano could ask for an even higher AAV and the short term contract would be worth it, but is it incorrect to assume most teams have some sort of yearly payroll budget? As stated to in the argument, better for the GMs giving out the contracts to spread that money out.

10 years ago
Reply to  Bobby

If you look at Dave’s ExWAR table 1.5-2.5 WAR per year is exactly what Cano is expected to produce during his 38-41 seasons.

10 years ago
Reply to  mettle

in this hypothetical, the contract with the deferred salary nets him an extra 50 million, is that factored in to cover the difference due to inflation?

10 years ago
Reply to  O'Jones

He would also be able to potentially sign another contract for those years.

10 years ago
Reply to  mettle

An important principle in economics is the desire to smooth income and consumption over time, which is what’s going on here. A player who is rationally managing his personal finances in a front-loaded contract will be saving rather than spending that extra money, and given the drop-off in earnings potential after retirement, he would be investing that money very, very conservatively. What the long/flat-rate contract structure does is build that end result in automatically. And if you’re about to argue that he’s forgoing interest in that regard, do note that the average assumed rate ($7m/WAR) in this hypothetical contract is substantially above the generally assumed standard of $5.5m/WAR. What he’s forgoing in interest he’s getting back in a higher rate

Zen Madman
10 years ago
Reply to  Plucky

I don’t think $5.5M/WAR is a good assumption anymore.

10 years ago
Reply to  Zen Madman

New TV money has increased the number and will presumably do so even more by the end of this hypothetical contract.